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B. Venkatesh

THE K Bond Deposit Plan (growth) returned 14.45 per cent since last November. Investors can take small exposures in the fund. The recommendation is based on the following factors:

The fund's portfolio consists of corporate bonds, and government bonds of various maturities. As government bonds are liquid, they react immediately to a market development. An interest rate cut, for instance, translates into higher bond prices immediately. With a general bias towards lower interest rates, the exposure to government bonds, thus, enables the fund to generate good returns without trading off liquidity.

Now, there is an advantage in loading corporate bonds to a portfolio consisting of government bonds. Most corporate bonds are not regularly traded in the market. This forces mutual funds to use pricing models to value these bonds. Typically, the pricing models add a credit spread to the government bond yields to arrive at the corporate bond yields. Credit spread refers to the yield differential between corporate and government bonds, and is a compensation for the risk of the company defaulting in interest and principal payments.

For instance, a half per cent spread may be added to the 5-year government bond yield of 6 per cent to arrive at the 5-year corporate bond yield of 6.5 per cent. Such pricing means that corporate bonds contribute to unit-holder returns in two ways: narrowing of credit spreads, and/or increase in government bond prices.

While a mix of corporate and government bonds augurs well for the unit-holders, a note of caution is in order. The credit spreads have fallen sharply in recent times, and scope for a further fall appears limited. The case is no different with government bond prices, which have risen sharply over the same period.

The implication is that contribution of corporate bonds to unit-holder returns may not be as high as in the past. Nevertheless, the likelihood of corporate bond prices contributing to the net asset value (NAV) is higher than that of the government bonds; for just one of the two factors (credit spreads and government bond prices) can increase returns.

Then, the fund has bettered the JP Morgan Composite Bond Index on a risk-adjusted basis. This lends confidence on future performance. Another favourable factor is the change in portfolio composition every month, suggesting active portfolio management. Such a strategy lends confidence that the fund may sustain profits, and cut losses.

Background: The Plan offers growth and dividend options. There is no entry load, but the fund levies an exit load of 0.50 per cent if the units are redeemed within three months of investment.

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